4 Signs That Market Is Shifting To Risk-On

Includes: CQQQ, SPY, TLT
by: Greenwood Investments

The price action in various asset classes are painting an imminent shift in market sentiment to that of a risk-on nature.

In this article, I look at the technical picture in equities, commodities, and interest rates.

It is highly likely that the S&P 500 will go on to make new all-time highs in the coming week.

It has come to my attention that the price action in various asset classes are showing signs that a risk-on macro environment is brewing, with the most likely scenario that the S&P 500 will go on to make new all-time highs in the coming weeks.

In this article, I write about the four signs in different asset classes that paint a risk-on picture, and end off the article with two trade ideas to benefit from this scenario.

Sign #1: Recovery in China Stocks

The first sniff of a potential return in animal spirits came on August 17, 2019, when I wrote that investors should consider adding the Invesco China Technology (CQQQ) ETF to their portfolios as a long-term investment, as a play on China's seemingly inevitable rise to global dominance in the field of technology. Crucially, the ETF was trading near the crossroads of key support levels. Below, I show the chart I posted on August 17, compared to an updated chart today. CQQQ has rallied almost 12% higher, and is in the midst of tracing out a potential bullish double bottom pattern. I believe there are more legs to go, and that the ETF will test the $52 neckline level at least.

CQQQ Weekly Chart: Posted on August 17, 2019

CQQQ Weekly Chart: September 6, 2019

Mind, the investment idea was originally shared when tensions between US and China were hitting a nadir with both sides ramping up the stakes by imposing tit-for-tat tariffs on each other. As I have shared with subscribers of my marketplace service The Naked Charts, the value of technical charts comes from their ability to foretell where price action is ultimately headed towards. Fundamental news serves only to confirm what the technicals have been telling us all along.

As with CQQQ, the ETF rallied due to two catalysts last week - that the US and China had planned to meet for trade negotiations in Washington in early October, and that Hong Kong had decided to withdraw the controversial extradition bill, which should bring about reduced tensions and protests within the country going forward.

Sign #2: S&P 500 Breaks Out Higher

S&P 500 Daily Chart: September 6, 2019

The S&P 500 (SPY) has been trading in a range of 2,830 to 2,940 since its sharp sell-off at the end of July / start of August. This is a consolidation pattern, whereby a break of the upper bound of 2,940 should lead to a continuation of the index's uptrend, while a break of the lower bound of 2,830 should indicate a deeper retracement in the index. The former scenario appears to have materialized, and is in line with the bullish price action seen in China stocks (via CQQQ). As such, I firmly believe we will see new highs in the S&P 500 in the next few weeks.

Sign #3: Gold's Rally Has Stalled

XAU/USD Weekly Chart: September 6, 2019

Buying XAU/USD has been a huge high-conviction call of mine since June, and I believe a mixture of accommodative central bank policies and a huge supply of negative-yielding global debt will continue to support gold prices in the long term. XAU/USD has returned close to 15% since the start of the year, but its rally is showing some recent signs of fatigue.

XAU/USD has made new 52-week highs and closed at the lows of the week for each of the past two weeks. This signals that XAU/USD is facing a decent amount of selling pressure at current levels, especially close to the $1,550 levels. Making new highs should indicate bullishness, but the manner in which XAU/USD has been unable to hold on to these gains makes me think that we could see a further retracement in prices.

Sign #4: Treasury Yields at Strong Supports

US 10 Year Treasury Yield Weekly Chart: September 6, 2019

The UST 10 Year Yield (TLT) has been in the news for all the wrong reasons of late, most recently that it has dived below the UST 2 Year Yield, thus forming a curve inversion. By now, most investors should have read in some publication or another that a curve inversion has typically been a harbinger of recessions.

Taking a look at the weekly chart, the UST 10 Year Yield is now trading close to its 7-year low of around 1.40%. This level has provided tremendous support in the past, and is unlikely to be broken so easily. Last week, we saw a rebound in the UST 10 Year Yield as risk sentiment improved. In all probability, we are likely to see a further rise in Treasury yields from current levels, mainly as the long Treasuries trade is presently the most crowded trade in the world. The extremely overcrowded positioning makes it unlikely that there are enough Treasury buyers left in the market to send the UST 10 Year Yield below the 1.40% level. What is more likely is a short squeeze in the long Treasury trade, which would send yields higher.

A rise in the UST 10 Year Yield would fit into the picture alongside higher global equities and lower XAU/USD.

How to Benefit?

The first trade idea to benefit from an imminent risk-on scenario is to buy into the CQQQ ETF at market. As mentioned earlier, the technical level I am looking out for is $52, which represents about 8% upside from current levels. At this moment, the surprise factor that would likely send CQQQ up much higher would be a toning down of the unrest in Hong Kong. The Hong Kong government has taken the first, crucial step in withdrawing the extradition bill, paving the way for the protestors to grab the olive branch and respond in kind by ceasing their protests and violence.

On a longer time frame, China's rapid ascent up the global technology ladder is likely to support inflows into CQQQ, and I am comfortable allocating a portion of my portfolio to gain exposure into the high-growth China technology sector.

The second trade idea would be to take up an opportunistic short position in XAU/USD at market. Gold's rally this year has been relentless, and we could see prices take a breather and re-test the $1,400 levels, a key area which has contained prices in the past few years. I would suggest selling XAU/USD at market ($1,506) with a take profit level at $1,420 and a stop loss at $1,565 - just above the recent swing high.

All in all, I am seeing a strong likelihood of a rebound in global risk sentiment. This scenario is reflected across a number of asset classes - equities, commodities, and interest rates. Investors should consider the two trade ideas to take advantage of this imminent shift in risk sentiment.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.